Thursday, February 6, 2014

India is going through a major transformation where Startup ecosystem is booming like never before and the overall energy and sentiment has been electrifying. With some of the recent acquisitions by biggies like Google, Facebook, Apple etc. of few Indian Startups, it proves that we have now become a global force which cannot be stopped.

The Indian Government has started talking about it and reckoning it as the game changer in coming years. They have been trying to come out with various schemes and policies to boost interest and investments in Startups.

When everything is going in the right direction, there are few things which the Indian Startups deserve to strengthen the ecosystem, attract good talents and stay competitive globally. Being closely associated with the ecosystem through eLagaan, I had an opportunity to experience the pains and solve many of them by challenging the existing norms.

For last few quarters I have been toying around with this idea of 1 Paisa Company and firmly believe that this is one thing which India needs badly to align itself to best global practices. What is 1 Paisa Company?? Lets look at it in greater detail:

What is 1 Paisa Company?
* 1 Paisa Company refer to a private limited company whose shares have a face value of 1 Paisa (INR 0.01)

* When someone incorporates a Private Limited Company, the Indian Company Law mandates that it should have INR 100,000 as the minimum authorized capital.

* The face value of one share is a derived figure: Authorized Capital divided by Number of constituent shares.

What difference does 1 Paisa Company makes?
* It increases the liquidity and affordability of shares drastically (atleast 100x considering current minimum of INR 1 face value).

* It gives startups an opportunity to offer much much higher stocks to employees and other stake holders without diluting the essence of it.

Lets imagine you have incorporated a company with INR 1 as face value (which is lowest as per current trends) and have allotted a pool of 15% for ESOPs on a INR 200,000 capital base. This offers 30,000 shares for ESOP pool (which should typically be reserved and distributed among 50-100 team members). Lets talk about an employee, whom you want to give about 100 shares of the company (which still works out to 0.05% of the company). As per standard ESOP practices, you offer these 100 shares over a 4 year vesting period. So when you are hiring this employee and selling him the startup story, you say "Hey, I shall give you 100 stocks of our company if you work with us for next 4 years. So you get Twentyyyy Fiiive (25) shares per year for every year of your job with us". The employee gets tooooo excited hearing these numbers and says with a grin "Wow, thats a huuuuge number and I should certainly join this company :)"

Lets look at the same scenario with 1 Paisa company. You have now 3,000,000 shares in ESOP pool. If you still want to offer same number of shares (0.05% of the Company) to him, it works out to 10,000 shares. If you feel this is bit high for him, you can look at reducing this to may be 5000 or 7000 shares or any other number that you deem fit. Imagine the reaction of the hire, when you give him these numbers.

* When startups raise funding, it also helps keep check on the premium paid per share, which is a cause of concern for many investors. Having handled multiple levels and rounds of investments for our clients @ eLagaan (right from angel/ seed to venture), it has been a common practice for investors to ask increase of authorized capital to accomodate abnormal share premium that results because of low number of shares. This is more true for larger round of funding which runs from USD 200K to few Millions.

Lets assume that you have a INR 200,000 Authorized capital company with 200,000 shares (of face value INR 1). You are raising about USD 1M (or INR 60M at current rates of INR 60/ USD). The deal is for 25% ownership (50,000 shares). The share price works out to INR 1200 per share (INR 1199 as premium and INR 1 as face value). This price is very high and investors typically want it in the range of INR 200 - 400 per share. The only choice then remains is to increase the authorized capital (by paying associated fees) to increase the consituent shares. The reasons why investors want this are many:

* It is challenging to justify such high premiums when the company has not even started operations properly.

* The risk factor for investors goes very high with extra-ordinarily high premium.

* India now has a new law, where any amounts received in excess of fair value, are taxable.

In the same example, with 1 Paisa company, the share price works out to INR 12 only (premium of INR 11.99 and face value of 1 Paisa) without any changes or need to increase the authorised capital (thereby, resulting in substantial savings on time and costs to make required changes).

Both the examples shows the number game, and may or may not yield much direct financial benefits to the company depending on their specific scenario. Irrespective of the direct financial benefits, the numbers do give an edge and many indirect benefits to companies. Currently the companies spend lots of cash to hook on to the talent pool, to keep them motivated etc. as they donot value the ESOP numbers much.

What are the global best practices?* Most of the developed countries allow promoters to choose their face value (XXX amount of authorized capital divided into YYYY shares as per promoter's preference). The promoters generally follow some best practices prevalent in the Industry or takes opinion of their attorneys before deciding on right numbers in their scenario. e.g. in USA, most of the times we see that companies are incorporated with USD 1000 as capital base and underlying shares in the range of 10M to 100M (in either scenario the face value works much lower than 1 cent)

* Few places, it is also possible to form companies without any face value.What Indian Company Law says?* The Indian Company Law doesnot specify any limits (minimum or maximum) for face value and is silent on the same.

* The Company Law specifies a minimum of INR 100,000 as the authorized capital to start a Pvt. Ltd. company. Currently the standard practice in India is INR 10 face value companies (most of them), INR 100 and INR 1 face value.

* SEBI (which governs the rules for listing of a Public Limited company in a stock exchange) specifies minimum face value of INR 1. This is no way related or connected with a Private Limited Company.

Summing Up
I strongly believe that Indian companies do deserve fair platform to empower themseleves with globalbest practices so as to ease out lot of their pains and get more bandwidth to focus on their core activities. Many startup forums and meets have highlighted the fact that HR is one of the biggest challenge for startups in the country. Its time that India should see rise of 1 Paisa company. The advantages are numerous and disadvantages none except for some age old thought processes and adamancy on how it can be done.

We at eLagaan has already started our journey to incorporate India's 1st 1 Paisa Company (LawArmy India Private Limited) at Bangalore. I shall continue to share the experiences that we encounter during the process to make this change happen. Stay tuned here for updates on the same.

If you also believe in power of 1 Paisa Company, please visit our exclusive page on 1 Paisa Company and register your petition. Also visit our Facebook page to share your feedback, comments or Likes.

Lets come together to make this happen.

About the Author: Navin Rungta is co-founder of eLagaan. He is a passionate Entrepreneur committed to ease out multiple pain points existing in Legal, Taxation and Business compliance domain using technology as a major disruptive force to change some of the age old practices prevalent here. Having worked on both sides of the table - Customer &amp; Service Provider, he had opportunities to experience the pain points on both sides and is working towards addressing it.